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Monday, March 9, 1998
Adaptec Ready to Take the High Road to Recovery
By Lisa R. Goldbaum
Many technology stocks have come back strongly from
October's Asian massacre. Not Adaptec, a Milpitas,
CA-based manufacturer of computer adapters. At its
current price of about 24, the stock trades at nearly
56% below its October peak of 54 1/4, which also
happened to be its all-time high.
What went wrong? Well, for starters, Adaptec
committed the unpardonable sin of missing analysts'
earnings expectations for its fiscal third quarter
ended in December by a whole penny a share. What made
matters even worse was that Adaptec also announced
that sales of some of its key host adapter products
were weaker than expected during the quarter, because
of the growing shift to computers costing less than
$1,000.
Adaptec makes hardware and software that speed the
transfer of data between computers, peripherals and
networks, certainly a critical area in today's
network-centered world. Its host adapter products are
based primarily on a protocol called Small Computer
System Interface or SCSI (pronounced "scuzzy"). SCSI
interfaces allow several peripheral devices like
CD-ROMs and scanners to be connected to a single
adapter card. Computer makers generally have used
another, cheaper protocol in lower-cost machines,
whose growing popularity caused Adaptec's sales to
slip below their usually robust levels in November
and December. (Adaptec also announced that sales of
its semiconductors would be much lower in the current
fiscal fourth quarter.)
But despite all these recent problems, some industry
pros believe that Adaptec is about to turn the
corner. Last month Adaptec agreed to purchase
Symbios, a Fort Collins, Colorado-based unit of
Hyundai Electronics, for $775 million in cash. In
fact, analyst Tejinder Singh at C.E. Unterberg,
Towbin, believes the acquisition will give Adaptec a
hammerlock on a technology that "controls the
input/output to the microprocessor" -- or, in other
words, all the data that flows into and out of a
computer. "[The acquisition] will allow Adaptec to be
the only viable solution for the SCSI protocol,"
notes Singh. "You're looking at a company that's
going to be the dominant supplier in that solution."
The Symbios acquisition also will greatly enhance
Adaptec's exposure in one key area of the market --
high-end servers. Singh notes that while Adaptec has
a strong presence in the lower-end Windows NT-based
server market, which itself has been growing rapidly,
Symbios is dominant in higher-end UNIX-based
applications and should give Adaptec access to
big-name accounts like Sun Microsystems, IBM, Compaq
and Hewlett-Packard.
Indeed, analyst Stewart Kalter at New York-based
Spencer Clarke, who also has a Buy recommendation on
Adaptec's stock, believes that the acquisition will
enable Adaptec to get about 40%-50% of its total
revenues from high-end products -- up from its
current 30%. That should insulate it to some degree
from the pricing pressure it is experiencing at the
lower end, he contends.
Adaptec's management also is pushing to improve its
own business. The company is more aggressively
marketing the SCSI platform to value-added resellers
putting together low-cost machines, according to
spokesman Bruce Frymire. "We're trying to show them
that [SCSI adapters] make good value," he notes. And
analyst Singh believes that manufacturers are
beginning to use the SCSI protocol more in sub-$1,000
PCs as consumers demand better performance from these
systems -- tasks like downloading large files from
the Internet or playing graphically intensive
computer games. If he's right, Adaptec will then be
able to participate in the fastest-growing segment of
the computer market and significantly boost
host-adapter sales (albeit not at the high margins it
gets for its server-based products).
And with the stock at its currently depressed levels,
analyst Singh believes that the down side on the
stock is limited. At about 24, Adaptec trades at
roughly 12 times the $2.01 per share analysts
estimate the company will earn in the fiscal year
ended March 1999, according to Zacks Investment
Research. That's a pretty steep discount to its
expected five-year growth rate of 22%. And Spencer
Clarke's Kalter argues that with the rest of the
industry trading at about 20-25 times earnings,
Adaptec's stock has been unduly punished for its
earnings shortfall. His 12- to 18-month price target
for the stock is 40.
If the company can regain some lost ground in the
low-end market while becoming a dominant provider of
connections to the high end as well, maybe investors
will stop punishing Adaptec for disappointing them
and start rewarding the stock for the company's great
potential.
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